In a major policy speech
on Sunday, Netanyahu responded to weeks of pressure from Washington by finally giving his endorsement - with conditions - to the establishment of a demilitarized Palestinian state.

Palestinians were dismayed
by his demand they first recognize Israel
as a Jewish state and his failure to heed a call they and US President Barack Obama have voiced to halt Jewish settlement construction in the West Bank.

"The international community should confront this policy, through which Netanyahu wants to kill off any chance for peace," Abbas adviser Yasser Abed Rabbo told Reuters.

"They must isolate and confront this policy which Netanyahu is adopting and exert pressure on him so that he adheres to international legitimacy and the Road Map,"
he said, referring to a US-sponsored 2003 peace plan. Rabbo called Netanyahu a "scoundrel and a liar."

Netanyahu pledged to keep all of Jerusalem as Israel's capital - defying Palestinians' claim on the city - and hedged on whether Israel would ever remove West Bank settlements.

He ruled out the admission of Palestinian refugees to Israel proper and said Abbas must impose his authority over the breakaway Hamas Islamists ruling the Gaza Strip.

Abbas' chief of staff, Rafik Husseini, said Netanyahu's speech "contradicted the principles of (the peace process) as set by the international community."

'Important step forward'

The address, in which Netanyahu urged the Palestinians to resume talks with Israel immediately, was welcomed by the White House as "an important step forward" for implementing Obama's vision. The European Union also praised Netanyahu's speech.

Palestinian negotiator Saeb Erekat said mediators should challenge Netanyahu on whether he was prepared to tackle territorial issues such as borders, Jerusalem and settlements.

"Netanyahu is talking about negotiations about cantons - the canton of the state of Palestine, with a flag and an anthem, a state without borders, without sovereignty, without a capital," Erekat said.

Netanyahu's speech was greeted with circumspection across the political spectrum in Israel, which has seen almost two decades of stop-start talks about a "two-state solution", a concept the right-wing Likud party chief had balked at endorsing.

Prior to the speech Palestinian Authority officials said the key to any advancement in the peace process remains in Obama's hands and hinges on the amount of pressure the US applies on Netanyahu, but on Monday a Palestinian analyst told Ynet the Israeli PM "armed Hamas with ammunition it could only dream of."

Netanyahu's cabinet secretary, Zvi Hauser, described the speech as an opening move in what Israel hoped would be discussions of a peace deal involving the wider Arab world.

"Look, of course we must all distinguish between what is desirable and what is at hand. Yesterday, the prime minister delineated what is desirable," Hauser told Israel's Army Radio.

"As of this morning, we have to deal with what is at hand, and what is at hand is not just in our court. What is at hand is mainly in the other side's court."